Return to the start of Section 6–4, where we calculated

Return to the start of Section 6–4, where we calculated the equivalent annual cost of producing reformulated gasoline in California. Capital investment was $400 million. Suppose this amount can be depreciated for tax purposes on the 10-year MACRS schedule  from Table 6.4 . The marginal tax rate, including California taxes, is 39%, the cost of capital is 7%, and there is no inflation. The refinery improvements have an economic life of 25 years.

a. Calculate the after-tax equivalent annual cost. ( Hint: It’s easiest to use the PV of depreciation tax shields as an offset to the initial investment).

b. How much extra would retail gasoline customers have to pay to cover this equivalent annual cost? ( Note: Extra income from higher retail prices would be taxed.)